Robustness and information processing

Abstract

Abstract. This paper considers a standard Kalman filtering problem subject to model uncertainty and information-processing constraints. It draws a connection between robust filtering (Hansen and Sargent (2002)) and Rational Inattention (Sims(2003)). Considered separately, robustness and Rational Inattention are shown to be observationally equivalent, in the sense that a higher filter gain can either be interpreted as an increased preference for robustness, or an increased ability to process information. However, it is more interesting to consider them jointly. In this case, it is argued that an increased preference for robustness can be interpreted as an increased demand for information processing, while Sims' model of Rational Inattention can be interpreted as placing a constraint on the available supply. This suggests that the way agents actually implement robust decision rules is by allocating some of their scarce information processing capacity to problems that are characterized by high degrees of model uncertainty and risk-sensitivity.JEL Classification #'s: C61, D81.

Robustly Strategic Consumption–Portfolio Rules with Informational Frictions

“…The main reason for this specification is to guarantee homotheticity, which makes robustness not diminish as the value of the total wealth increases. 24 Note that the evil agent's minimization problem, (11), becomes invariant to the scale of total resource, s t when using the state-dependent specification of ϑ t .…”

“…23 See Maenhout (2004) for detailed discussions on the appealing features of "homothetic robustness". 24 Note that the impact of robustness wears off if we assume that ϑ t is constant. It is clear from the procedure of solving the robust HJB proposed.…”

“…Following Kasa (2006) and Reis (2011), we assume that the consumer observes only a noisy signal containing imperfect information about s t :…”

“…Note that here we assume that the consumer receives signals on s t dt rather than on ds t . As emphasized in Sims (1998) and discussed in Kasa (2006) and Reis (2011), the latter specification is not suitable to model state uncertainty due to finite capacity because this specification means that in any finite interval, arbitrarily large amounts of information can be passed through the consumer's channel. In addition, following the RI literature, we assume that ξ t is independent of the Brownian motion governing the fundamental shock, B t .…”

Robust Permanent Income in General Equilibrium

“…The left panel of Figure 2 illustrates how DEP (p) varies with the value of ϑ for different values of CARA (γ). 28 We can see from the figure that the stronger the preference for robustness (higher ϑ), the less the DEP (p) 27 The number of periods used in the calculation, N, is set to be the actual length of the data. 28 Based on the estimation results, we set y = 1, σ y = 0.309, and ρ = 0.128.…”